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Entrepreneurship and Firm Formation across Countries

The 2007 World Bank Group Entrepreneurship Survey measures entrepreneurial activity in 84 developing and industrial countries around the world over the period 2003-2005. This is the second such survey conducted by the World Bank, and incorporates improvements in methodology, and expanded participation from countries covered, allowing for greater cross-border compatibility of data compared with the 2006 survey. TheDatabaseincludes cross-country, time-series data on the number of total and newly registered businesses. This study finds significant relationships between entrepreneurial activity and indicators of economic and financial development and growth, the quality of the legal and regulatory environment, and governance. This raises additional questions, such as: what are the causal effects of changes in the business environment on entrepreneurial risk taking; and can we identify reforms that promote greater formal sector registration. Future surveys will provide longer runs of data, which is required to fully address these issues.

As summarized in Klapper and Quesada Delgado (2007), the 2007 World Bank Group Entrepreneurship Survey gathered data directly from Registrar of Companies and other official sources on the year-end stock of total registered firms and new firms registered in the calendar year from 2000 to 2005. The definition of entrepreneurship includes only businesses that operate in the formal sector and—to maximize comparability across countries of different legal and economic systems—the database includes only limited liability corporations.

The key indicator of entrepreneurship is the entry rate, defined as new firms (those that were registered in the current year) as a percentage of lagged total registered firms. Business density is defined as total firms as a percentage of working age population. Entry rates in developing regions range between 7 and 9 percent; in contrast, business density varies greatly across regions (Figure 1).

Data was also collected from 46 countries on existing and new businesses disaggregated by sector of activity: wholesale and retail trade; finance, insurance, and real estate; industry; and services (Figure 2).

The distribution of businesses across these sectors shows an almost perfect asymmetry between developing and industrial countries. In developing countries the share of businesses in the wholesale and retail trade and finance sectors is twice that in industrial countries, while the share in industry and other services is only about half as large. Reasons might include lower requirement in the trade sector, relative to capital intensive manufacturing sectors, for investment, human resources, knowledge, and capital, and the relatively larger demand by traders – and large and overseas buyers – for formal sector registration and a VAT tax ID.

The database also includes information on electronic registration and distribution of registrar information. While more than 80 percent of industrial countries have introduced an electronic registry, only about 30 percent of developing countries have done so. Electronic registration procedures are shown to reduce the costs of entry and encourage greater business registration (Figure 3). These results can help guide effective policymaking and deliver new capabilities for identifying the impact of reforms.

Entrepreneurship is important for the continued dynamism of the modern economy and contributes to economic growth (de Soto, 1990 and Djankov, et al., 2002). Yet many countries put in place regulations that make it more difficult to start a new firm. A recent paper by Klapper, Laeven, and Rajan (2006) uses a database of European firms to look at the cost of meeting the regulatory requirements for setting up a limited liability company, and to study the effect of such entry regulations on the creation of new firms, the average size of firms that finally are able to incorporate, and the dynamism of incumbent firms.

The authors find that costly regulations hamper the creation of new firms, especially in industries that should naturally have high entry; force new entrants to be larger; and cause incumbent firms in naturally high-entry industries to grow more slowly. The results hold even when correcting for the availability of financing, the degree of protection of intellectual property, and labor regulations.

This paper highlighted the importance of quantifying the relationship between entrepreneurship and the business environment and encouraged the collection initiative of the 2006 Entrepreneurship Survey.

Klapper, Amit, Guilllen, and Quesada (2007) study statistical relationships between indicators of entrepreneurship and measures of the investment climate. A strong relationship emerges between greater entrepreneurship and factors such as the cost of starting a business and better governance, measured as the average of the Kauffman, et al. (2006) governance indicators (Figure 4).

Multivariate results find that entry rates are significantly related to better governance, even after controlling for GDP per capita. This suggests that government corruption and enforcement is a driving force in the decision of entrepreneurs to join the formal sector.

Business density is strongly and significantly related to lower barriers to entry and better governance. These findings spotlight the importance of the business environment in formal private sector development and growth.

In 2007, the World Bank Group entered a partnership with the Kauffman Foundation to collect additional years of data and expand the country coverage. The expectation is that this database will be updated annually and become a base for further studies in business creation. A new dimension of this project is the undertaking of experimental research projects aimed at testing and better understanding the factors that contribute to greater entrepreneurship and formal sector participation and the impact of related policy reforms. A research conference to disseminate the findings is planned for Spring 2009.